The Reserve Bank of New Zealand is likely to raise the official cash rate again by a quarter percentage point to 3.00% in Thursday's policy meeting despite the economic recovery proceeding at a tepid pace. The RBNZ raised its official cash rate by 25 basis points to 2.75% last month - the first hike in almost three years. In a statement accompanying that rate announcement, RBNZ governor Alan Bollard said the increase was triggered by sustained economic growth.
But since that policy meeting most economic data have mildly dissapointed on the downside. New Zealand's gross domestic product grew by 0.6% against the central bank's forecast of 0.8%. Retail sales rose a weak 0.4% in May, while core sales, which exclude volatile elements, slid 0.2%.
Inflation also came in lower than expected, with annual consumer price inflation moderating to 1.8% in the June quarter. Food prices have fallen, and the strength of the New Zealand dollar over the last year is still being passed through to the prices of many tradable goods.
Moreover, the New Zealand Institute of Economic Research's latest quarterly survey of business opinion showed that confidence among businesses fell to 28% in the June quarter from 36% in the March quarter, suggesting the recovery may be stalling. "Slowing momentum of global economic growth and financial market dislocation add risks to the economic outlook," the think tank warned earlier this month. "In this environment the [RBNZ] needs to take care not to stifle already anaemic domestic demand and derail a fragile export recovery."
Nonetheless, analysts believe the central bank will hike the rate again this week, but with a slightly more balanced statement than at the last meeting. "Recent economic data has been on the soft side of expectations, but not enough to divert the RBNZ from its stated intention to normalize interest rates over the next couple of years," economists at Westpac Bank said in a note.
Helen Kevans, an analyst at JPMorgan, agrees with that view. "The statement accompanying the decision next week probably will balance weaker conditions in the G7 economies against strong growth in New Zealand's major trading partners in Asia and the potential for stronger export revenue," she said.
Although inflationary pressures are subdued, Kevans said the RBNZ should keep an eye on inflation expectations given some one-off policy changes, such as the rise in the consumption tax. "The challenge for the RBNZ will be to prevent elevated inflation spilling over to changes in price and wage-setting behavior," she said.
Economists at Westpac said this week's statement is likely to be peppered with reference to flat or weaker economic conditions compared to June. However the bank said the crucial message from the market's point of view would be left untouched.
The message in the June statement read: "Given this outlook and as previously signaled, we have decided to begin removing some of the monetary policy stimulus that is currently in place. The further removal of stimulus will be reviewed in light of economic and financial market developments."
The economists expect the central bank to raise interest rates to a more neutral level of 5.5-6.0% over the next two years. "The RBNZ has spent many months making the case that interest rates will need to be normalized as the economy improves," they said. "There is nothing in the recent data that would warrant a change to the end-point of that plan, though it perhaps argues for less front-loading of hikes."
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